SARBOXED IN?(Sarbanes-Oxley Act of 2002)

In the summer of 2002, with the stock market tumbling and fraud at Enron and WorldCom dominating the headlines, there was immense political pressure on Washington to restore investor confidence by doing something about corporate crime. Scrambling to deflect charges of indifference to the plight of widows whose 401(k)s had vanished, Congress hastily wrote and passed the Sarbanes-Oxley Act (dubbed SarbOx), a tough piece of anti-fraud legislation. A Republican-dominated Congress might have been expected to oppose costly business regulations, but politics made SarbOx a thoroughly bipartisan affair. The bill passed unanimously in the Senate, and, when President Bush signed it into law, he proclaimed the end of an "era of low standards and false profits."

Washington's pride in SarbOx, though, was not universally shared. Businesses hated the complexity of the new rules (which, among other things, required corporate executives to certify all the financial results of their companies). Economists fastened on the inefficiency of many of the law's provisions. Stephen Moore, the founder of the Club for Growth, recently called the law "a new cancer," and the former chief financial officer of GlaxoSmithKline deplored it as an "American nightmare." SarbOx, the argument now goes, is a classic example of government overreaction. Its heavy costs outweigh its meagre benefits, standing in the way of the market's efficient allocation of capital. The Securities and Exchange Commission is now talking about loosening enforcement of the regulations, while lobbyists are pushing Congress to revise the bill in the year ahead.

SarbOx is decidedly flawed, most notably because the cost of compliance is too high for small companies. Initially, the S.E.C. suggested that the average company would have to spend ninety-one thousand dollars annually, but the stringency of the regulations means that the real number is well into seven figures (for a start, a company has to appoint people to police it internally), a cost that may discourage smaller firms from going public. However, although SarbOx does need to be mended, that doesn't mean it should be ended. Congress may have passed the law in a fit of political panic, but the fraud that it was designed to deal with, far from being a matter of the proverbial few bad apples, was becoming endemic. Executives routinely engaged in "earnings management," releasing hyped or invented numbers in order to pump up their companies' stock price. Between 1997 and 2002, public companies reported nearly a thousand earnings re-statements--admissions that their previous statements had been inaccurate.

This fraud cost investors and lenders an enormous amount of money, vaporizing hundreds of billions of dollars in shareholder value. But corporate crime also had a significant effect on people who had never ...